Dividend income refers to money that I get paid as a shareholder of a business. A FTSE-listed company usually pays out dividends semi-annually, so I could expect to see cash into my account a couple of times a year. If I want to achieve a certain level of income per year, I need to shift my focus away from one company and look more towards a portfolio of dividend shares.
Assessing how much I need to invest
The main thing I need to consider when aiming to make £5,000 a year is how much cash I have available at the moment. Clearly, if I can only afford to invest £1,000 right now, I’m not going to be able to make £5,000 a year in dividend income. The math simply can’t add up.
To start building the components together, I need to first look at what dividend yield I can achieve. This will impact how much cash I need to invest. For example, with an average dividend yield of 1%, I would need to invest £500,000. But with a yield of 10%, this reduces my initial investment down to £50,000.
So what yield can I realistically get? If I wanted to stick to the average yield within the FTSE 100 index, I could achieve a yield of 3.39% right now. Assuming that I pick my dividend stocks actively, I think I could boost this yield to 5%.
On that basis, I’d need to invest a lump sum of £100,000 in order to generate £5,000 a year in dividend income.
An alternative method for dividend income
If I have the needed cash available, then I can move forward to selecting a group of dividend stocks to put my funds into. However, there is another way to reach the £5,000 goal over time.
Rather than invest a lump sum, I can invest a smaller amount each month. For example, let’s say I want to start enjoying the £5,000 dividend income in 10 years time. This gives me a decade to invest in order to get a pot worth £100,000.
In this case, I’d need to invest just under £650 a month for the next decade. Any dividends I receive during this period from the stock I invest in would be reinvested back into the pot. This would have the same target yield of 5%. Then at the end of 10 years, I’d have a dividend portfolio worth over £100,000. From then on, I could start to enjoy it.
The £5,000 is just a figure, and the same process can be carried out for a higher or lower amount. The main thing to look at is what yield do I feel comfortable with and how much can I afford to invest. This can be either in one go or over time. From this angle, I should be able to work towards my goal of passive dividend income.
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jonathansmith1 and The Motley Fool UK have no position in any share mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
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